By Hilary Kramer
So, Apple (NASDAQ:AAPL) is having trouble selling iPhones in China. You’ve seen the headline and heard the chatter.
Since Oct. 3, the stock has been down 40 percent from its all-time peak and $450 billion has been destroyed in the last 64 trading days. To a casual observer or an Apple hater, it looks like the end of the world. Of course, the negativity has been overdone.
At most, sales in the current iPhone cycle are coming in 5 percent below last year’s levels and 10 percent below what had been my target before CEO Tim Cook started lowering the bar.
But the rally that preceded the crash was overdone too. This is why I hadn’t recommended the stock in the first place and why I have resisted buying the dip so far.
My subscribers have plenty of strong candidates to chase without adding the most controversial stock on Wall Street to the mix. However, we’re getting close to Apple receiving our consideration as a short-term trade.
The calculations start with the old guideline that a stock is a no-brain buy when its growth rate is above its earnings multiple.
For Apple, I can’t confidently anticipate any growth at all in the immediate future. There are simply too many global headwinds and the core product line is too mature to help the company sizzle its way out of the doldrums.
At best, earnings might inch up 3-5 percent this year. On that basis, I’d jump to buy Apple below a 5X multiple, roughly $60 per share.
That’s a long way down.
Add Buybacks to the Calculations
Everything else is all about the market’s mood and Tim Cook’s willingness to surrender the $236 billion in cash and marketable securities on the balance sheet to buy back his own stock.
Cook has promised he’ll take that side of the balance sheet to “zero,” while letting debt ride. It’s a one-time trick, but one way or another, it returns about $50 per share to shareholders.
Add that cash to the $60 per share growth target and I’d cheerfully jump at Apple if it drops another 23 percent. We may ultimately hit that limit if Cook burns all his dry powder.
At that point, of course, buybacks inflate the per-share trend because the number of shares in the float will drop.
We’re already looking for Cook to spend at least $59 billion in the coming year to retire 400 million shares. That has already been built into my minimal growth target.
While anything more will stretch the profit pool and create the illusion of vibrant growth, it will only delay the inevitable moment when Apple will run out of cash and need to demonstrate real innovation.
What will that innovative product be? Services have been a great sideline for the company since the early iTunes era, but the category is only growing 25 percent a year from a $40 billion base.
Unless Cook pulls some magic out of his next keynote speech, it’s going to take at least six months for services to compensate for the weakness we’re seeing on iPhone sales in China.
That’s a long time to wait. And while any number of peripheral products like the Apple Watch can ultimately get the company back on its long-term trajectory, the base there is lower and current growth just isn’t there — the math simply doesn’t add up.
Betting on smart Apple Cars or integrated Apple Homes or an Apple TV channel is really just trading on hope. I love hope. But I invest in realities.
As a result, we need to see a change in the product line. We need to see how much of an impact services actually has on the overall profit margin.
The Needle Doesn’t Move
Failing that, the global economy needs to improve to the point where Apple can start selling more smartphones. Nothing else in the company’s existing ecosystem can move that needle.
To compensate for a 5-percent drag on iPhone revenue, Tim Cook needs to sell 7 percent more of everything. That’s not going to come from iPads or the classic computers, both of which are flat categories at best.
Maybe there’s a breakout device on the horizon. If so, now’s the time to unveil it.
However, the fact that Tim Cook is eager to defend his stock with cash makes me suspect there’s no miracle product in the wings.
And don’t get me wrong: I love the products. We use them all the time at home.
But families all over the world don’t buy new phones every year.
This is especially true in places like China, where a $1,000 iPhone is easily a month’s pay for the typical household.
Apple’s premium pricing strategy has simply hit its limit. While people love the brand, they can’t or won’t pay for the phone.
That’s reality. As far as I’m concerned, a similar logic applies to Apple’s stock.
If this were any other company selling anonymous widgets, I’d be reluctant to recommend it as anything but a short-term swing trade.
(We’re playing just such a swing right now in my options service, by the way.)
Apple’s aura has bought it a lot of forgiveness on Wall Street. But the company doesn’t account for intangibles on its balance sheet. I don’t either.
While this makes me a contrarian, I don’t mind. Outside of my $110 per share buy threshold, the analyst with the lowest opinion on Apple thinks the stock will be worth $140 per share a year from today.
That’s dead money now. Everyone else is currently betting on at least a 30 percent rebound here.
Show me the math that justifies that they’re right.